Professional Documents
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Abbott ABT
Abbott ABT
Analyst: LINH HO
April, 23, 2013
Recommendation:
HOLD
Pros:
Ticker
Exchange
Industry
Sector
Classification
Market Cap.
52 Week Price Range
Recent Price
Current P/E
Projected 2015 P/E
Projected 2015 EPS
Dividend Yield
Debt Rating
Beta
ABT
NYSE
Generic
Pharmaceutical
Manufacturing
Healthcare
Capital Appreciation
and Income
$58.32B
$28.26- $37.55
$37.20
11.34 TTM
13.6x
$2.5
1.67%
A1 (Moodys)
0.52
Cons:
Pricing Pressure
Uncertainty from healthcare reform
Threat from competitors innovation
Concern about nutritional segment
Overvalued by DDM and FCFE
Brief Overview
Abbott Laboratories is an American global
pharmaceuticals and health care products company.
It has 90,000 employees and operates in over 130
countries. The company headquarters are in Abbott
Park, North Chicago, Illinois. The company was
founded by Chicago physician, Dr. Wallace Calvin
Abbott in 1888. In 2010, Abbott had over $35 billion
in revenue. Source: Wikipedia
1
Portfolio Considerations
Purchase
Date
Ticker
ABT
ABBV
AKRX
CELG
SYK
4/21/2008
12/10/2012
2/8/2013
6/15/2012
4/25/2012
Number of
Shares
415
415
2,421
321
480
Cost
Per Share
$24.18
$35.00
$13.00
$66.00
$53.76
Current
Price
$35.08
$37.58
$12.82
$98.77
$63.85
Current
Market Value
Equity Holding Period EIF YTD EARNED S&P 500 Holding Equity
Total Return (%)
RETURN (%) Period Return Percentage
$14,558.20
$15,595.70
$31,037.22
$31,705.17
$30,648.00
69.04%
8.64%
-2.95%
49.29%
20.44%
35.23%
8.64%
-2.95%
49.29%
20.44%
21.99%
7.57%
0.20%
14.92%
11.38%
Last Dividend
1.42%
0.14
1.52%
0.40
3.02% No Dividend
3.09% No Dividend
2.98%
0.27
Correlation
Company Name
Thermo Fisher
Abbott Laboratories
1.00
0.40
0.53
0.53
0.27
-0.28
Celgene Corp
0.40
1.00
0.43
0.51
0.14
-0.09
Stryker Corp
0.53
0.43
1.00
0.24
0.29
0.53
0.51
0.69
0.69
1.00
0.23
-0.08
Akorn Inc
0.27
0.14
0.24
0.23
1.00
0.22
Abbvie Inc
-0.28
-0.09
0.29
-0.08
0.22
1.00
The spinning off Abbvie seems to be a positive thing for our fund, in terms
of diversification when Abbvie has negative and low correlation with other stocks
in our portfolio. For example, the correlation between Abbot and Abbvie is -0.28.
This is explained by the fact that new Abbott now is a generic pharmaceutical
company whereas Abbvie is branded name pharmaceutical company. In the next
sections in the report, I will show that companies in generic pharmaceutical
industry are rivals and competitors to companies in brand name pharmaceutical
industries to some extent. Furthermore, later in the report, I will explain why
management of Abbott decided to spin-off Abbive. What are the strategic plans
and rationales behind this decision?
I. Industry Analysis
Since Abbott was established, research based pharmaceuticals have been
major revenue source and main line of business. However, there has been a change
in the companys strategy by shifting its focus on from branded pharmaceuticals to
other segments, especially branded generic products. The spin-off of Proprietary
Pharmaceuticals (branded pharmaceuticals) business segment into a new
independent company, named Abbvie, was clear evidence for the companys
strategic change. Under New Abbott, Branded Generics will account for 31.6%
(largest part and this number will increase in the future) of the new business 1 ;
therefore, I decided to categorize New Abbott into Generic Pharmaceutical
Manufacturing industry.
1. Industry at a Glance
JPM
3
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
2019
will expire), health care reform, shifting from developed countries to emerging
markets. All of this factors as long
16
Revenue Growth
as other drivers like technology
14
change, private insurance and senior
population increase will foster the 12
growth of generic pharmaceutical 10
industry. It is estimated that the 8
industry will grow average 6.4% for 6
2013-2018 period. The growth 4
prospect of the industry, in turn, 2
will attract more and more 0
businesses,
but
sustained
consolidation and active M&A
activities will offset that trend. As a
result, IBISWorld project that during 5 years from 2013 to 2018, the number of
companies in the industry only increase average 0.4% per year to 1,141.
medicine on a regular basis, according to the Agency for Healthcare Research and
Quality2. Baby boomers have started reaching ages of 65 or older. This trend will
create an average growth rate of 3.1% per year. As this senior group increases, the
demand for industry products will rise as well.
IBIS
6
a. Products
In vitro (meaning "in glass," such as in a test tube) and in vivo (meaning "in
the body") diagnostic substances are chemical, biological, or radioactive
substances used in diagnosing or monitoring the state of human or animal health by
identifying and measuring constituents of body fluids or tissues. In vitro
diagnostics, which are used outside of the body, constitute the largest share of this
product category.
The current trend in the segment is to miniaturize in vitro diagnostics
machinery to make it more portable. This point-of-care (POC) testing is expected
to present the greatest growth area in the near future for in vitro diagnostics.
Already, the technology is penetrating hospitals and medical centers and will soon
be available in the home healthcare field. While FDA approval of products, such as
an imaging agent for use with ultrasound technology, is expected to help bolster
the category, current regulations are stringent and an increasing burden.
Therapeutic classes
The most prescribed generic drugs in 2013 are expected to continue to be
related to pain treatment, high cholesterol and high blood pressure. Just over half
of the drugs dispensed for high blood cholesterol in the United States are generics.
Similarly, generic products dominate the large class of cardiovascular
medications.3
b. Market and supply chains
Retail pharmacy chains, mail-order pharmacies, group purchasing
organizations, distributors and wholesalers are direct customers of generic drug
producers. In other words, end-user customers have to get drugs from independent
pharmacies, managed care organizations and hospitals which are redistributed by
distributors, wholesalers and so on.
One of the issues for the industry is that a substantial portion of sales goes to
small number of U.S retail drug chain, wholesalers and group-purchasing
organizations. These buyers have already had a prevailing purchase power. In
addition to that, many these customers have tendency to implement consolidation
and integration to gain even bigger power. This trend will pose a huge risk for the
industry because it is very hard for them to maintain a high profit margin when
customers get large discounts and create an enormous price pressure on products.
3
IBIS
10
Although FDA set up quality standards for products, many retailers who
play critical role in determining the sales of producers, want to go beyond these
standards to ensure everything is good at every level of production and
distribution. Because the competition is so high in the market, manufacturers have
no choice to increase the quality standards as required by retailers. To do that,
more investment will be needed and more costs will incur, dragging down profit
margin.
Changing regulations
As an outcome of healthcare reform and poor economy, regulatory and
competitive environment have been reshaped. The distribution system has become
much more complex. For example, third-party logistics are challenging
conventional wholesale position. An increasing number of orders are direct sales
coming from mail order or online. Moreover, regulators require companies to make
their pricing details more transparent as well as initiate methods to reduce price of
drugs.
Wholesalers
Despite these changes, it may take years to see a considerable effect and
drug wholesalers are still the largest customer category for pharmaceutical and
medicine manufacturers, accounting for an estimated 58.7% of industry revenue in
2013. Why can wholesalers achieve this position in the industry? One of the
answers for this question is: As a key buyer in the market, hospitals often prefer to
delegate inventory management to wholesalers to reduce investments in inventory
and receivables, and manufacturers want to outsource much of the distribution
work to wholesalers to focus on core competencies: research and development
(R&D) and marketing. In this regard, generic drug manufacturers use direct
distribution more often than branded companies, because generics can afford to
devote more resources to distribution and less to research. Under the wholesaler
chain is drug store chain. Drug store chain is the main buyer from wholesalers;
accounting for 27.8% wholesales revenue. Among chain drug stores,
merchandisers and super markets with pharmacies inside like Wal-Mart take a
large part of that.
Third-party logistics providers
11
Third-party logistics, like DHL, UPS, FedEx, are increasing their role in the
distribution system. Providers are expected to account for about 15.0%, up slightly
from 2008, because these firms have benefitted from the outsourcing of drug
distribution activities. Most notably is DHL, which landed a lucrative long-term
contract with Pfizer to become the first logistics provider to be given complete
responsibility for the company's worldwide clinical trial materials distribution,
according to In-Pharma Technologist.4
Direct sales
There are a lot of methods that companies can use to sell their products
directly to end-user customers like online sales, but this trend does not really have
a huge impact on the sales in the next several years. According to IBIS, Direct-toconsumer sales are expected to account for about only 9.0% of pharmaceutical
sales in 2013, about the same as 2008.
IBIS
12
with less experience has capability to meet these standards at reasonable costs.
Competing within an environment in which saving costs is the key to success;
many companies cannot see an attractive profit margin to enter the market if they
have to meet all of requirements from FDA. Last but not least, reputation plays a
critical role for operators in the market because customers have tendency to choose
products from well-established firms. This trend makes new entrants with less
reputation disadvantageous to popular producers. All of these factors contribute to
failure of many newcomers into the market when many firms go bankrupt or are
acquired by other bigger companies.
3. Threat of Substitutes: Moderate
The increase in R&D and rapid change in technology create opportunity for
potential new products. For example, many firms now are focusing on producing
new compounds or unique biologic products. The new biologic drugs may have
better use and effect than existing generic drugs to cure certain diseases. In many
parts of the world, there are some alternative medical treatments, but not widely
used. In this respect, some non-pharmaceutical substitutes may challenge the
industry to some extent. For example, psychiatry may replace anti-depressants. In
some markets, especially in Asia, herbs, acupuncture, and other traditional
therapies are likely to substitute for prescription drugs.
4. Power of Suppliers: Moderate to High
First of all, we need to know that inputs for producing a drug vary from
stage to stage. During research and development stage, for example, primary inputs
are laboratory and research equipment. These inputs are quite unique because it
supports only certain purpose. As a result, suppliers have quite high power in this
situation. In other stages, like production and manufacturing or packaging and
labeling materials, the inputs are quite homogeneous; therefore, pharmaceutical
producers have more choice of their suppliers. Consequently, these suppliers have
little or low bargaining control on drug manufacturers.
5. Power of Buyers: Moderate High
The major buyers for pharmaceutical products include retail drug store
chain, hospitals, wholesalers and state and federal government. These buyers often
purchase in huge volume; therefore, gain a lot of discount. Furthermore, many
wholesalers and drug store chains are undergoing integration and consolidation.
14
This activity will make them become bigger organizations and give them
more purchase power. Moreover, there are a lot of variations of a generic drug
which have the same function and effect. This characteristic obviously provides
customers more choice of which one is suitable for their needs and their ability to
pay. However, customers sometimes do not have much option in situations like the
drugs are prescribed by physicians.
Sales by Region
Canada
3% Italy
France
3%
3%
Spain
2%
United
Kingdom
3%
Germany
4%
The Netherlands
5%
Japan
6%
United States
42%
All Other
Countries
29%
15
Basically, Abbott has two main product groups. The first is diversified
medical products which comprise medical devices, established pharmaceuticals,
nutritional products and diagnostics. The other one is research-based
pharmaceuticals which bring major revenue for Abbott and spurred most of the
firms growth. Products from the second group are brand-name; therefore, Abbott
was categorized in brand pharmaceutical industry before 2013.
Since established, research-based pharmaceuticals have been Abbotts core
line of business for many decades. However, in recent years, the company has been
shifting its focus on to diversified medical product sector. The question is why?
First of all, the research-based pharmaceuticals are extremely risky. The statistics
data follow will help us understand how risky brand name manufacturing industry
is. Only one of every ten thousand discovered compounds will become an
approved drug for sale. Beyond that, it takes companies from 7 to 10 years to get
official approval. And only there out of twenty drugs end up making enough
revenue to cover their costs 5 . As can be seen in the chart below, the cost of
production of a successful drug is increasing from time to time. Therefore, in order
to be successful in the market, companies need to have a consistent stream of
blockbuster (which have billions of dollar of sales revenue) coming out every
certain years.
1987
2001
2006
http:// www.phrma.org/about/biopharmaceuticals
16
brand name pharmaceutical firms find hard for their premium prices. In some
cases, after a drug loses its patent protection, its price plunges 80%. Moreover,
generic drug companies do not have to spend much money on R&D and enjoy
reputation established by their brand name counterparts. In recent years, under
Obamacare, government is implementing a series of actions to make prescription
drugs more affordable such as shortening patent protection periods and carrying
out rebate programs. All of these factors make branded drugs less attractive and
less profitable and leaning toward to generic products is a new trend. Abbott is go
ahead to take advantage of this trend.
The culmination of this shift is the spinning off its proprietary
pharmaceutical company, named AbbVie. There are several strategic rationales
and actions behind this spinning off. First of all, according to managers of Abbott,
the investment identity and the operating model of each separate enterprise is very
different from the other. The management thinks that keeping generic and brand
name segments together will not a wise choice when investors as well as market
will not fully realize the fundamentals of the company and believe that the value of
Abbott will be better revaluated with this spin-off. Second, Humira current brand
name blockbuster and other patented drugs which will belong to AbbVie after
spin-off are going to lose their patent protection in the next five years. As
mentioned above, after losing protection, these products will be sold at huge
discount and no longer are main money-making money machines for the company.
In addition to that, R&D expenses are enormous and prohibitive for product
discovery and development. These R&D expenses from research-base segment
will badly affect the profit margin of generic sector which have much lower R&D
costs if we let both of them stay together. Last but not least, old Abbott will
transfer nearly 70% of its debt to Abbvie, leaving the new Abbott with more free
cash flow to implement its strategy to focus on generic drug development. JP
Morgan estimates that sales growth for new Abbott will be from 5% to 5.5%
annually in the next five years whereas this number for brand name segment is
1.5%.
Divisions and products
Proprietary Pharmaceuticals
As the name implied, this segment includes all of the products which are
made internally by Abbott. These segments have some blockbuster drugs such as
Humira - or the treatment of rheumatoid arthritis, Kaletra - for the treatment of
HIV infection; Lupron - or the palliative treatment of advanced prostate cancer and
17
Synagis - for the prevention of respiratory syncytial virus. These prodcts account
for 79% revenue of this segment in which Humira makes 47% total revenue.
Wholesalers, Government Agencies, healthcare facilities, and independent retailers
are main buyers of these drugs. Competition with Proprietary Pharmaceuticals
comes from other healthcare and pharmaceutical companies. The introduction of
new products by competitors or changes in medical therapy may severely affect
Proprietary pharmaceuticals by making existing products obsolete. Because of high
risk associated with patent loss, sluggish growth and fierce competition from
generic companies, Abbotts managers decided to spin-off this segment, beginning
in 2013.
Established Pharmaceuticals
This is the division which management sees most growth and is spending a
lot of investment into. These products include a broad line of branded generic
pharmaceuticals manufactured worldwide and marketed and sold outside the
United States, and are generally sold directly to wholesalers, distributors,
government agencies, health care facilities, specialty pharmacies, and independent
retailers from Abbott-owned distribution centers and public warehouses, depending
on the market served. Some principle products for this division are: Creon - for
the treatment of pancreatic exocrine insufficiency associated with several
underlying conditions, Influvac, an influenza vaccine available during flu season;
Brufen, for the treatment of pain, fever and inflammation and so on. This
segment is supported by healthcare reform which wants to help people to access
medical products and service at more reasonable prices.
Vascular products
These products include a broad line of coronary, endovascular, vessel
closure, and structural heart devices for the treatment of vascular disease
manufactured, marketed and sold worldwide. The main buyers for these products
are hospitals. Sales are implemented through Abbott-owned distribution centers or
public warehouses. Some main products for this segments are: Absorb, a drugeluting coronary bioresorbable vascular scaffold, Xience Xpedition, Xience
Prime, Xience nano, and Xience V, drug-eluting coronary stent systems
developed on the Multi-Link Vision platform; and MitraClip, a percutaneous
valve repair system. Technological innovation, price, convenience of use, and long
term contracts may make the market very competitive. Just take long term contract
as an example. There are a small amount of hospitals which often buy products
18
under million or even billion dollar contracts. Every company understands that
gaining the contract with these hospitals will ensure the revenue stream in the long
run. That explains why companies compete so aggressively to earn these contracts.
Diagnostics
These products include a broad line of diagnostic systems and tests
manufactured, marketed, and sold worldwide to blood banks, hospitals,
commercial laboratories, clinics, physicians' offices, government agencies,
alternate-care testing sites, and plasma protein therapeutic companies. In recent
years, Abbott has made more bet into this segment through a series of acquisitions
of companies already in their respective markets. Some key products in this
segment are: the Vysis product line of genomic-based tests, the m2000, an
instrument that automates the extraction, purification, and preparation of DNA and
RNA from patient sample, Immunoassay and clinical chemistry systems, including
ARCHITECT and ABBOTT PRISM. Many products are facing risk of being
obsolete when other companies introduce new products into the market.
Nutritionals
This division has been split into adult and pediatric nutritionals. This
segment has been gaining its position in the emerging market. Currently, Abbott is
the largest nutrition firm in the world. On the one hand, some chief pediatric
nutritional products are: SimilacAdvance, Similac Advance with
EarlyShield, Similac. One the other hand, we have adult nutritional products
like Ensure, Ensure Plus, Ensure Muscle Health, Ensure. Primary
marketing efforts for nutritional products are directed toward securing the
recommendation of Abbott's brand of products by physicians or other health care
professionals. Competition for these nutritional products comes from other
diversified consumers and healthcare manufacturers basing on competitive factors
like consumer advertising, formulation, scientific innovation and intellectual
property.
19
Proprietary Pharmaceutical
8%
Established Pharmaceutical
11%
45%
Nutritionals
Diagnostics
Vascular
16%
Medical Optics
20
Noticeable M&A
It is very hard for Abbott to predict and estimate this risk factor which is totally out
of their control
Abbott's research and development efforts may not succeed in developing
commercially successful products and technologies, which may cause Abbott's
revenue and profitability to decline. To remain competitive, Abbott must continue
to launch new products and technologies. To accomplish this, Abbott commits
substantial efforts, funds, and other resources to research and development. A high
rate of failure is inherent in the research and development of new products and
technologies. Abbott must make ongoing substantial expenditures without any
assurance that its efforts will be commercially successful. Failure can occur at any
point in the process, including after significant funds have been invested. By
spinning off Abbvie, Abbott gets rid of significant amount of this type of this.
The international nature of Abbott's business subjects it to additional
business risks that may cause its revenue and profitability to decline and unstable.
Following the separation of AbbVie, sales outside of the United States are
expected to make up approximately 70 percent of Abbott's net sales. The risks
associated with Abbott's operations outside the United States include: First, the
company has to comply with governmental legislation which regulates
manufacturing and marketing of its products. Because the law systems and
requirements in each country are very different, it may be costly to meet all of the
requirements as well as to gain approval for Abbotts products. Furthermore, one
of the target markets Abbott wants to expand is the emerging markets, like China
and India; however, in these countries, copyright violation and patent infringement
are rampant and hard to control. If Abbott does not control its intellectual property
well, the company may lose its competitive advantage to domestic rivals who can
copy its products and sell with much cheaper price. Last but not least, currency risk
could negatively affect the operation of Abbott. Moreover, performance results of
foreign facilities will be translated into U.S dollar for consolidated financial
statements. Unfavorable move of foreign currency against the U.S dollar will cause
the financial statements to look unattractive to outside stakeholders. As you can see
in the table below how significantly a change in Foreign exchange may impact on
a change in sales of Abbott. In 2012, a disadvantage movement of foreign
exchange took away 2.9% revenue growth of Abbott. In the future, if Abbott finds
out effective hedge method, the firm may make their sales performance look more
stable and predictable.
Total
% Change
Total Net Sales
2012
2011
2010
2009
2.6
10.53
14.3
4.2
Components of Change
Price Volume Forex
1.7
1.20
(0.10)
(0.10)
3.8
6.50
13.20
8.30
(2.9)
2.80
1.20
(4.00)
23
Looking at the chart, we can easily realize that, during October to the first
half of November, Abbott stock was trading at very high price and very high
volume. This is the time there were rumor on Abbvie spin-off. After Abbott
officially announced the spin-off, many investors think that the effect of rumor had
been full reflected on the price, then decided to sell their shares to protect their
return, making Abbott price plunge. From December to now, the stock consistently
recover and increase due to positive perspective investors have on the spin-off.
Some rationale investors think this spin-off is better for Abbott as follow: New
Abbott gives away the risk it may get from patent protection loss for many of its
products to Abbvie. Second, 70% of its debt was transferred to Abbvie, leaving
Abbott with better free cash flow to focus on its strategies for generic drugs.
Lastly, revenue is expected to higher from 5%-5.5% annually.
24
V. Financial Analysis
FY 2006
FY 2007
FY 2008
FY 2009
FY 2010
FY 2011
FY 2012
Pfizer
J&J
Industry Avg
12%
5%
20%
9%
28%
12%
25%
11%
20%
8%
19%
8%
23%
9%
17.8%
7.8%
17.8%
9.2%
26.0%
10.7%
Gross Margin
EBITDA Margin
Operating Margin
Pretax Margin
Net Income Margin
57%
26%
19%
10%
8%
56%
25%
18%
17%
14%
58%
28%
21%
20%
17%
58%
30%
22%
23%
19%
58%
26%
18%
16%
13%
60%
24%
17%
13%
12%
62%
27,98%
21%
16%
15%
81.4%
46.2%
33.3%
20.5%
24.7%
67.8%
30.8%
25.3%
20.5%
16.1%
71.2%
33.3%
25.5%
20.9%
16.8%
Quick Ratio
Current Ratio
0.47
0.94
0.85
1.54
0.91
1.47
Liquidity Ratios:
1.26
0.73
1.79
1.29
1.02
1.54
1.72
2.36
1.58
2.15
1.34
1.9
1.17
1.72
Debt to Equity
Financial Leverage
1.57
2.57
1.23
2.23
1.43
2.43
Debt Utilization:
1.29
1.66
2.29
2.66
1.46
2.46
1.51
2.49
1.29
2.29
0.87
1.93
1.88
2.52
Asset Turnover
Inventory Turnover
0.62
3.43
0.65
3.87
0.70
4.42
Asset Utilization:
0.59
0.58
3.94
4.60
0.64
4.73
0.63
4.27
0.3
1.61
0.6
3.14
0.6
2.66
P/E
Price/Book
Price/Sales
Price/Cash Flow
17.90
5.30
3.32
15.21
19.20
4.87
3.34
18.75
18.30
4.72
2.79
12.82
Valuation Ratios:
13.00
12.20
3.65
3.25
2.71
2.11
12.43
9.08
11.00
3.57
2.25
10.40
12.92
3.86
2.59
11.08
11.5x
2.3
3.16
10.94
13.6x
3.0
2.85
12.43
16.1x
5.1
2.79
11.76
8%
0.62
2.57
12%
14%
0.65
2.23
20%
17%
0.70
2.43
28%
DuPont Analysis:
19%
13%
0.59
0.58
2.29
2.66
25%
20%
12%
0.64
2.46
19%
15%
0.63
2.49
23%
25%
0.32
2.29
18%
16%
0.57
1.93
18%
17%
0.61
2.52
26%
Additional
Effective Tax Rate
Dvd Payout Ratio
Sustainable Growth Rate
25%
103%
-0.4%
19%
54%
9.3%
19%
44%
15.5%
20%
42%
14.6%
9%
62%
7.3%
5%
44%
13.0%
21.2%
68.9
5.55
23.7%
61%
7%
23.0%
66%
13%
Returns
jdlasKF;DAS
Margins
19%
57%
8.6%
26
DuPont:
Return on Equity figure measures Abbotts profitability by revealing how
much profit the company has generated with the money shareholders have put into.
Dupont analysis will help us explain and understand in which way the company
can improve ROE. According to data table above, ROE for Abbott in 2012 is 23%,
which beats its competitors J&J and Pfizer. Dupont analysis tells us there are 3
ways the company may make an impact on its bottom-line number. First, the
company may increase its net profit margin. However, this does not explain why
ROE of Abbotts is better than those of its competitors because Abbotts net profit
margin is far behind J&J and Pfizer. In order to do this, the company has to either
increase its price or reduce cost. It is hard for Abbott to increase price of their
products when competition is high and rebate program may seriously affect their
profit margin. Therefore, cost cutting may be a better solution for the company.
Second, the company may want to increase its asset turnover. This is what the
company is doing with a series of acquisitions. Through acquisitions, Abbott may
want to access infrastructure and technology to help the company streamline its
production and optimize its asset utilization which is the second component of
Dupont function. Lastly, Abbott may want to borrow more debt to finance its
operation and increase its leverage ratio. This action may pose a risky situation in
which growth rate of the company is not higher than cost of debt, putting the
company in trouble. However, after spinning off Abbvie, we will observe a
decrease in leverage ratio when 70% debt of old Abbott will be transferred to
Abbvie. Decline in leverage ratio will negative affect on ROE of Abbott next year,
assuming other things will not change.
Current
Month
Last
Month
4
4
13
0
1
3
4
13
0
1
Two
Three
Months Months
Ago
Ago
3
2
4
4
15
14
0
0
1
1
27
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taking many steps to force medical and health care companies to reduce their price
for people.
Healthcare reform:
As one of the risk factors mentioned above, there is a lot of legislation
regulating the industry. Law makers are amending and creating a ton of new
regulations such as Medicare and Medicaid program with intent to make the
market better and bring harmonized benefits for all market participants. However,
the effects of these changes are controversial and uncertain.
Threat from competitors innovation
Like any company operating in medical industry, Abbott faces a great
challenge from threat of revolutionary innovation from competitors. Whenever
competitors discover a new drug or new method to cure a certain disease, it will
make Abbotts existing product become obsolete.
Concern about Nutritional segment
Abbott is the largest Nutritional Company in the world and Nutritional
segment also accounts for significant part of new Abbott revenue. However,
according to Morning Star investment research center, Abbotts nutritional
segment is unlikely to see much growth from developed market.
IX. Assumption
Approach to the model: Abbott creates an interesting situation when the company
officially spin-offed its proprietary research-based segment as an independent
company named Abbvie on 1/2/2013. After spin-off, the company still filed its 10K for financial year 2012 as a consolidated company (which means including
Abbvie). After separating from Old Abbott, Abbvie also filed its 10-K for its
financial year 2012. The issue here is that we need to valuate New Abbott which
does not Abbvie and has not filed its financial statements for its self. We cannot
take numbers from financial statements of 10-K of Old Abbott minus numbers
from financial statements of 10-K of Abbvie to get numbers for New Abbott
because value of assets of Abbvie, for example, will have different value under
independent position as compared with that under as a dependent segment under
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Old Abbott after being revaluated. Furthermore, tax position, capital structure and
so on also change when Abbvie has become an independent organization.
My approach for the issue is: I assume the Old Abbott had still existed and project
IS/BS/CF to 2015. Then with DDM and FCFE, I get the stock price for Old
Abbott. After having the modeled stock price for Old Abbott, I compare this price
with the price which is the sum of current market Abbott price and Abbvie price.
This method is reasonable because our fund currently stil holds both of these
stocks. Furthermore, if the model shows that the stock price is overvalued, we
should expect that the degree should be expected to be less than what the model
shows. Why? The spin-off will help the company specialize and utilize their assets
better. By this way, the assets under two independent companies are understood to
be higher value as compared with being under the whole Old Abbott. As a result,
the hypothetical stock price by adding New Abbott and Abbvie will be higher than
Old Abbott to some extent.
I understand that this approach is not totally quite accurate but it will help us
capture the idea of whether the stock of price is over or undervalue to some extent.
Revenue: I estimated revenue based on managements discussion and guidance for
2013 on Strykers website (4.6-5.5%).
Gross Profit Margin: From 2010-2012, the Gross Profit Margin was very stable
with a range of 60%-62%. Because there were no guidance on the issue, I took the
average profit margins of the most current years (2010-2012), and then applied the
average number for the years from 2013-2015.
Effective Tax rate:Management thinks that the tax bracket of the firm ranges from
12-15% from 2013-2015.
Basic and diluted weighted average shares growth: I noticed a constant increase
in diluted average weighted average shares. Without any information from 10-K
about this trend, I believe that this trend will continue and I add 5 million shares
each year to the average weighted average shares of the previous year beginning
from 2013.
Research and Development Cost: According to conference call which took place
on 4/17/2013, management believes that R&D accounts for 6%-7% revenue.
31
X. Sources
YAHOO! FINANCE
CNBC
STRYKER WEBSITE
IBISWorld
BLOOMBERG
HOOVERS
MORNINGSTAR
FIRST CALL WEB
THOMSON ONE
LEXIS NEXIS ACADEMIC
VALUE LINE RESEARCH CENTER
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Nutrition stands out as the shining star for Abbott Laboratories and perhaps the
primary reason for continued interest in the stock. First quarter sales for the
division were $1.7 billion, up 8.7% versus the same quarter of 2012. Emerging
markets, in particular, saw strong operational growth of 20%.
Diagnostics sales increased 4.4% year-over-year to nearly $1.1 billion. Core
laboratory diagnostics, the largest revenue-generator for the business segment,
grew sales by 3.6%. Point-of-care diagnostics is the fastest-growing area, with $99
million in sales for the quarter representing a 17.3% jump over the prior year.
Established pharmaceuticals sales dropped by 1.9% compared to first quarter 2012
to $1.2 billion. The bright spot for this segment is in emerging markets like China,
India, and Russia. Emerging market sales increased by 4.4%.
Medical devices remain the weakest segment for Abbott Laboratories. Sales
dropped by 4.6% year-over-year to $1.3 billion. Vascular, in particular,
underperformed with 7.7% lower sales than in the same period of 2012. This drop
stems partially from expiration of Abbott's contract in mid-2012 to supply the
Promus stent to Boston Scientific.
Ramifications
What do these results really mean for Abbott Laboratories' stock? Judging by the
initial market reaction, the results could help. Shares jumped over 2% higher than
the prior close in early trading.
Probably the most encouraging news was Abbott's continued strength in emerging
markets. The Nutritionals business segment appears to have the potential to power
reasonable levels of growth, largely from these markets.
My chief disappointment with the company is its relatively puny dividend. Abbott
declared its 357th quarterly dividend of $0.14 per share. However, the dividend
yield only stands at 1.5%. Meanwhile, AbbVie's yield is 3.7% -- much more in line
with Abbott's historical levels. Abbott won't be a high-growth stock, so a better
dividend would make shareholders happier.
Overall, the results for Abbott Laboratories were solid. The stock should continue
to do well, especially if current weakness in developed markets improves. In my
34
view, Abbott still looks like a decent, if not spectacular, stock pick as part of a
broader portfolio.
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The earnings result of the company is generally in line with our expectations, and
going forward we expect the nutritional business to continue growing on the back
of increasing demand in emerging markets. Another reason why the sale of
nutritional products is also going to be strong in the future is that the company
continues to leverage its strong brands and launch new products.
Abbotts stock currently trades at around $37 per share. We will soon release an
updated model for the company on our website and revise our price estimate for
the same.
Nutritionals Continue To Drive Sales
As mentioned in our pre-earnings article, the nutritionals division accounts for
nearly 30% of the value in Abbotts stock and its revenue has been growing at a
healthy pace of 7-8% over the last couple of years. The current quarters revenue
growth of 8.7% is actually higher than that average and is hence positive for the
company.
Driving this growth are Abbotts pediatric nutritional products such as Similac and
PediaSure. These products account for 58% of Abbotts total 1Q13 nutritional
sales of around $1.7 billion and the worldwide sales of these products increased
over 13% y-o-y in this quarter - primarily due to a strong demand pull from
emerging markets. The company continues to expand geographically in these
markets and is also benefiting from an uptake in newly launched products.
At the same time, the companys adult nutritionals business witnessed around 3%
of y-o-y revenue growth in this quarter and is benefiting from a continued
expansion of the adult nutrition market where Abbott is the global leader. [1]
Diagnostics Division Also Growing Well
Abbotts diagnostics division reported a 4.4% y-o-y increase in its worldwide sales
and the major highlights for this division were (1) Point of Care Diagnostics,
which grew around 27% in the U.S. due to continued uptake of new assays and
continued market penetration, and (2) core laboratory diagnostics products, which
grew by 5.9% on an operational basis on the back of a strong performance in key
emerging markets, such as China, Russia and Brazil.
Going forward, we expect the sales in this division to continue growing as new
products from the company hit the markets. Abbott is currently developing six
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new platforms across Core Laboratory, Molecular and Point of Care that are
designed to improve service to customers, enhance laboratory productivity,
improve efficiency and reduce costs.
However, Medical Devices Are Declining
Abbotts worldwide medical devices sales decreased by 3% on an operational basis
as the largest segment within this division, Vascular products, was impacted by
pricing pressure and a decline in procedures due to market conditions," according
to the companys press release. An expected decline of certain royalty revenues
further affected these revenues.
However, there were signs of hope within this segment as the companys new
product introductions like the XIENCE Xpedition (which is a drug-eluting stent)
and Absorb (claimed to be the worlds first and only coronary bioresorbable
vascular scaffold) are seeing strong demand in emerging markets.
While we expect pricing pressures and market conditions to continue pushing
profits for this segment downwards in the near term, there is a likelihood that once
market conditions improve a lot of pent up demand for surgical procedures will be
released and Abbotts vascular products sales in the U.S. will improve.
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Abbott Labs has also notified the US Food and Drug Administration (:FDA) and
all relevant healthcare authorities in the other countries about the defect.
We note that Abbott Labs obtained U.S. regulatory approval for its FreeStyle
InsuLinx Meter in the first quarter of 2013. Earlier in 2011, the company obtained
CE mark and Health Canada approval for ts FreeStyle InsuLinx Blood Glucose
Meters. The CE mark is a mandatory confirmation for products placed in the
European markets.
We remind investors that in Jan 2013, Abbott Labs separated its research-based
pharmaceuticals business by creating a new company AbbVie (ABBV). The
decision to spin off the business was taken in Oct 2011 when Abbott decided to
separate its business into two publicly traded companies one in diversified
medical products and the other in research-based pharmaceuticals.
Following the move, Abbott Labs became a diversified medical products company
including branded generic pharmaceutical, devices, diagnostic and nutritional
businesses.
Abbott intends to increase its presence in emerging markets, which provide a
substantial opportunity for growth, given the rise in middle-class income and aging
population. The diversification should enable Abbott to penetrate these markets
and capture market share.
In particular, the nutrition and diagnostics business should maintain momentum
and boost the bottom line due to an improvement in operating margins.
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